This copy is for your personal, non-commercial use only. To order presentation-ready copies for distribution to your colleagues, clients or customers, click the "Reprints" link at the top of any article.

Libor Accords Leave Banks Facing ‘Massive’ State Claims

More than 12 states involved in investigation of what rate manipulation may have cost state and local governments.

A multistate probe of alleged manipulation of interest rates threatens to leave banks liable for billions of dollars in estimated state and local losses from the scandal, even as they settle with national regulators.

New York Attorney General Eric Schneiderman is helping lead a probe into claims that banks rigged global benchmarks for borrowing, adding to investigations by other authorities, including the U.S. Justice Department. Royal Bank of Scotland Group Plc agreed yesterday to pay about $612 million to U.S. and U.K. regulators to resolve their claims.

“The damage to public entities is a matter of great concern to state and local governments,” Schneiderman said in an interview. “These were allegations of really despicable conduct.” More than 12 states are participating in the probe, according to a person familiar with the matter who requested anonymity because he isn’t authorized to speak publicly.

States have joined forces as banks reach settlements to resolve liability tied to Libor, or the London interbank offered rate. Barclays Plc in June agreed to pay 290 million pounds ($454 million), and in December, UBS AG agreed to pay 1.4 billion Swiss francs ($1.5 billion).

By acting together, state attorneys general can amass potentially large claims against banks and gain leverage in any settlement negotiations, said Stephen Houck, an attorney at Menaker & Herrmann LLP and a former chief of the New York attorney general’s antitrust bureau. Antitrust law allows states to seek triple damages.

“It certainly gives them more clout,” Houck said about states working with one another. “If they can bring all their claims together they’re representing a very large group of plaintiffs.”

Global authorities have been investigating claims that more than a dozen banks altered submissions used to set benchmarks such as Libor to profit from bets on interest-rate derivatives or make the lenders’ finances appear healthier.

Libor, a benchmark for financial products worldwide, is created from a survey of banks conducted each day on behalf of the British Bankers Association in London. Lenders are asked how much it would cost them to borrow from one another for different periods in various currencies.

Libor manipulation that kept the benchmark artificially low cost states and local governments about $6 billion on interest rate swaps, according to an estimate by Peter Shapiro, a managing a director at Swap Financial Group in South Orange, New Jersey. Those swaps are used to hedge interest-rate risk, with governments paying a fixed rate in exchange for variable payments based on Libor.

Floating Rates

Any investments in floating-rate securities tied to Libor also would have paid less in interest if the rate was suppressed. Shapiro said he doesn’t have an estimate for those damages.

“One of the challenges going forward is not necessarily whether the index was manipulated but to determine the degree,” said Nat Singer, a Swap Financial managing director. “Municipalities know they were shortchanged, but they don’t know by how much.”

Last year, 49 states and federal agencies reached a $25 billion settlement with five U.S. banks after attorneys general began an investigation into claims of fraudulent foreclosure practices by mortgage servicers.

Besides New York, 10 states confirmed their involvement in the Libor multistate investigation, including California, Florida, Colorado, Connecticut, and Massachusetts. Subpoenas have been issued to more than a dozen banks in the investigation, including Deutsche Bank AG, JPMorgan Chase & Co., HSBC Holdings Plc, and Societe General SA, a person familiar with the probe said last year.

Ed Canaday, a spokesman for RBS, and Michael O’Looney, a spokesman for Barclays, declined to comment about the state investigation. Karina Byrne, a UBS spokeswoman, said in an e-mail that the bank has disclosed that states are investigating.

Jaclyn Falkowski, a spokeswoman for Connecticut Attorney General George Jepsen, said in October that attorneys general throughout the U.S. had organized “a large, well-coordinated multistate investigation” in whether state and municipal issuers have been harmed.

Banks have already been sued by municipal governments including the city of Baltimore and San Diego County.

Banks will want to settle with a “critical mass” of states so they can avoid the potential cost of litigating in many states, said Peter Henning, a professor at Wayne State University Law School in Detroit and a former federal prosecutor.

“They’re a force to be reckoned with,” Henning said about the state attorneys general. “When states band together, this is where you get the multimillion- and multibillion-dollar settlements.”

Schneiderman declined to go into detail about the states’ investigation. Determining the damages is “quite complex,” he said.

“I think they’re massive,” he said. “I couldn’t even put a number on it.”

Treasury & Risk

Treasury & Risk is an online publication and robust website designed to meet the information needs of finance, treasury, and risk management professionals. Our editorial content, delivered through multiple interactive channels, mixes strategic insights from thought leaders with in-depth analysis of best practices, original research projects, and case studies with corporate innovators.